Deutsche Bank Sees The Fed Focusing On Five Labor Market Indicators

By Michael Aneiro

The Federal Reserve is set to kick off its first two-day policy committee meeting under the leadership of Janet Yellen tomorrow. Markets expect the Fed to use the occasion to update its stale thresholds for inflation and employment (particularly the 6.5% unemployment rate threshold) that have stood for months as the only hints it’s given about when it plans to raise short-term interest rates. Here’s Joseph LaVorgna, chief U.S. economist at Deutsche Bank, with his take:

Based on the Fed’s public displeasure with the current language on forward guidance, which is evident in both the FOMC minutes and recent speeches, we expect an overhaul of the language in the post-meeting communiqué. Policymakers will drop their numerical thresholds for unemployment and inflation…. Instead of providing a threshold on the unemployment rate for when the Fed would contemplate a hike in rates, policymakers will now track a broad array of economic indicators. To wit, the Fed’s reaction function will be qualitative rather than quantitative.

As for what indicators the Fed will likely be following, LaVorgna cites Yellen’s previous comments in pointing to these five:

Nonfarm payroll gains. “Over the last two years, job gains have consistently been around +180k per month, which means we need to see payrolls expand by over +200k per month,” LaVorgna writes.

Gross job flows, or the rate of job churn, which can be found in the Labor Department’s Job Openings and Labor Turnover Survey (JOLTS). “At present, gross jobs churn is just under 9 million per month (i.e., total hires plus total separations) compared to slightly over 10 million per month from 2003 to 2007.”

The hiring rate, currently at 3.3%, still half of a point below the five-year trailing average that existed prior to the onset of the last recession. “A pickup in this rate should be consistent with a faster pace on payrolls,” LaVorgna writes.

The quit rate, measuring the number of people who quit their job. “A rising quit rate is a sign of an improving job market because it signals that people are confident they can find meaningful employment elsewhere,” LaVorgna writes. That rate is currently 1.7%, up from its record low of 1.3% during 2009 and 2010, and below its 2.0% average from 2003 to 2007.

Real GDP growth. The FOMC is predicting growth of 3.0% this year, up from 2.5% last year and the 2.3% annualized rate since the recession ended in 2009.

“Consequently,” LaVorgna writes, “if the unemployment rate declines against the backdrop of stronger GDP growth, a quickening pace of payroll gains, faster job churn, a rising hiring rate and a falling quit rate, we can then expect monetary policy to be tightened.”

Amey Stone is Barron’s Income Investing blogger and Current Yield columnist. She was formerly a managing editor at CBS MoneyWatch, MSN Money and AOL DailyFinance. Her responsibilities included overseeing market coverage and personal finance topics. Prior to those roles, she was a senior writer at BusinessWeek where she authored the Street Wise column online and contributed to the magazine’s Inside Wall Street column. Topics covered included economics, corporate finance, Fed policy, municipal bonds, mutual funds and dividend investing. She co-authored King of Capital, a biography of Citigroup Chairman Sandy Weill. She is a graduate of Yale University and Columbia University’s Graduate School of Journalism.